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OPERATOR: I would now like to turn the conference over to Mr. Robert McMahon. Sir, please begin.

ROBERT MCMAHON: Thank you. Good morning, everyone, and welcome to this Council on Foreign Relations on-the-record media conference call on America's energy future. I'm Robert McMahon, editor of cfr.org, and we are very fortunate to have two experts on hand to help map out that future.

Michael Levi is CFR's senior fellow for energy and the environment, and he directs the Program on Energy Security and Climate Change and is author of the new book "The Power Surge: Energy, Opportunity and the Battle for America's Future."

Peter Orszag is vice chairman of global banking at Citigroup and former director of the Office of Management and Budget and a CFR adjunct senior fellow.

It is an especially timely moment for us to be discussing U.S. energy issues. Across the country, debates are playing out about the shale and fracking revolutions. A new proposed Obama administration budget underscores support for renewables, and we just passed the third anniversary of the BP spill in the Gulf of Mexico as well, just to name a few topical areas.

But I'm going to begin with a brief discussion with Michael and Peter and then open up for your questions. And I want to begin with Michael.

Michael, in your book, "The Power Surge," you write that, quote, "Everything we once knew about American energy seems to be changing," end quote. Can you sketch out what that means and maybe what opportunities it's presenting?

MICHAEL LEVI: Absolutely. When you look at the American energy scene, pretty much every piece of it is evolving in ways that we could not or did not project or predict a few years ago. Oil production is going up rather than going down, and that's happening in parts of the country that people did not expect oil supplies to be coming from.

Five years ago, we were talking about the consequences of becoming dependent on imported natural gas. Now we're talking about whether we should export natural gas. Oil consumption, which seemed like it would go up forever, has fallen steadily over the last seven years. And renewable energy production has doubled at the same time, in part because of government support but in part because of some pretty radical declines in cost that people didn't anticipate.

At the same time that you've had these changes in the energy world you also have had big changes in how energy effects the broader world around us. A lot of what we think we know about energy we figured out in the 1970s, in the aftermath of the first energy crisis, the first Earth Day. We focused on how energy affected the economy, security and the environment, but the way those relationships work has changed since then.

Forty years ago, self-sufficiency, producing all the oil we consume would have really meant a lot more independence from the rest of the world. Today, energy independence is a much more elusive goal, even if we were able to produce all the oil we consume. The relationship between energy and the economy has changed. And the role of climate change in how we have to think about our energy choices has evolved pretty radically too. The last time we thought really seriously about energy as a country, climate change wasn't such a big issue. Today, it should be pretty central to how we think about our future.

MCMAHON: So one of the things that comes through the book -- you have these great anecdotal scenes from the -- like the state of Ohio, for example, which has taken on a new kind of significance as a battlefield state, I guess you could say. But it -- not really involving a lot of action, seemingly a lot of action from Washington that's led us to this moment. Could you talk a little bit about, you know, how much of this has sort of evolved on its own, how much was guided from a hand above?

LEVI: So a lot of what has happened has come from the ground up, rather than from Washington. We've seen this oil and gas boom driven by technologies that at some critical points did get some support from Washington, but that are pretty much being driven by private innovation, private investment onto private lands. The gains in renewable energy have been pushed in part by technology but in part by significant support from government, and the decline in oil consumption has been -- has been spurred by high oil prices, but also by fuel economy standards that steer people into more efficient cars and trucks. So we have a mix of different pieces.

What's critical going forward is that in order to capture the opportunities, or at least some of the opportunities that the changes create, we will need action from Washington. We will need smart rules for oil and gas development so that it can grow but also so that bad actors don't have serious accidents like the Deepwater Horizon disaster and ruin the party for everyone else. We need to have rules that help us use this abundant natural gas to replace coal in our power system and drive down emissions. We need support from government for further innovation and clean energy and steps that help private companies in the market take into account the damages to the climate that are created by overconsumption of fossil fuels and the harm to national security that comes when we use too much oil.

MCMAHON: So we're -- this is happening against a backdrop of, among other things, the sequester drama playing out in Washington. And your most-of-the-above approach would need to involve some crossing of aisles to make it work, to sort of frame a sensible energy policy. Where is that going to happen? Where is that going to start? Or are there things that are starting that we should be following and keeping an eye on?

LEVI: I think we should start small. It's been a while since we had some serious cooperative steps on energy. The first thing we can do is try to have the two sides not tear each other down too aggressively, so have each side focus on the gains that are important to it rather than on just opposing its traditional enemies. But let me give you one example of a small area where we could make gains. The president has proposed an energy security trust which would take money from expanded -- or from new leases for oil and gas and steer some of it towards support for innovation in technologies that use less oil. That's a small area. I think the proposal could be improved, but it's one where people who support new oil and gas drilling and people who support clean energy innovation could get together.

Another area where you could make progress without requiring new spending is improving the way we do permitting for energy development. Whether you want to do more oil and gas development or you want more clean energy development, you're going to need to build new things; you're going to need to build new facilities, you're going to need to build pipelines and power lines to move energy from where it's produced to where you need to use it -- all of those can't happen if we're in an environment where it's borderline impossible to build anything new.

MCMAHON: Got it. So, practical beginner steps there.

Peter, from an economist's perspective, can you talk a little bit about the economic impact of the shale revolution?

PETER ORSZAG: Sure, and this is one of the themes that Michael highlights in his excellent book. But let me just give a little bit more specificity to it.

The question is, what would the, you know, potentially dramatic new production, especially as it spreads to tight oil from shale formations, have on the economy? We've already seen significant effects from the dramatic decline in natural gas prices, but as this revolution spreads to the oil market also, what will the impact be?

My colleague, Ed Morse, has put out a report that tries to quantify some of these things, so let me just give you some flavor, because the effects are quite significant.

New production plausibly could amount to something like 7 percent of additional -- of global production by, say, 2020. A reasonable estimate from that additional production is that the additional supply, along with the reaction to the price reduction that is associated with the additional supply overall would reduce prices, oil prices by something like 16 percent in 2020, which is a quite significant impact.

And then the question is what does that price reduction and the new production itself do to GDP, and the answer is that it -- you know, a reasonable approach suggests that it would raise real GDP in 2020 by something like 2 (percentage points) to 3 percentage points, which is the equivalent of approximately 300 (billion dollars) to $600 billion a year.

Just to kind of walk through that very quickly. The first impact is when you've got a lot of new oil and gas production, that adds to real GDP directly because of the value of the new output, if you will, and a reasonable estimate there is that that accounts for about half of the total impact on the economy.

But in addition to that, you then have a kind of multiplier effect from that new production, as there are secondary effects. You can imagine, for example, the reduction in natural gas prices lead -- stimulates activity in petrochemicals and steel and, you know, other very energy intensive sectors. And when -- so that's one kind of indirect effect.

And then the second indirect effect is on consumers because, as energy prices decline, they've got more disposable income to spend. You can think of that component as basically being a tax cut. And in fact, the price reductions, the -- kind of of the order of magnitude that I mentioned would amount to almost $100 billion a year in new economic activity that's being driven by the lower prices and freeing up disposable income in household budgets. So you can imagine -- you can think of that almost as if it's a -- basically $100 billion a year tax cut.

So these are pretty big effects. I mean, one way of thinking about a 2 (percent) to 3 percent increase -- percentage point increase in GDP by 2020 is if that were spread evenly between now and today so that you get to the extra 2 (percent) to 3 percent by 2020, that's, you know, 30, 40 basis points a year. And to put that in context, that would be the equivalent of moving GDP growth from, say, 2 (percent) to almost 2 1/2 percent a year, which is, in today's economy, quite a noticeable effect. So this is a pretty big deal, and it's important that we -- that we -- well, it would be -- it would be very beneficial if we were to actually experience those kinds of gains.

MCMAHON: So let's take another underlying issue here that we haven't addressed yet directly, which is climate impact and, say, the role of price in carbon. Could you talk a little bit about that and how that plays into this?

ORSZAG: Yeah. And this is another theme throughout Michael's book, but one of the -- obviously, the underlying issues in the energy sector writ large and that has broader economic consequences is climate. And as an economist, I just want to emphasize that it -- the core thing that is missing right now, it is -- it is beneficial from a climate perspective that natural gas prices have declined, and that has led to some shifting of electricity generation from coal to natural gas.

But the biggest missing thing in terms of our response to the threat of significant climate change is price in carbon. We've got to attach some price to carbon and carbon equivalent greenhouse gasses in order to generate the responses from private firms and from households that would be desirable.

So just to calibrate this, you know, there are a whole variety of proposals out either for cap-and-trade, which would establish a price for carbon, or to just impose a carbon tax. And let me just give you some specificity with regard to a carbon tax.

If you consider there are a whole range of proposals out there, but if you consider a tax of $25 per ton of carbon dioxide equivalent, the impact would be from a revenue perspective that you'd raise north of $100 billion a year. So just to, you know, come back to the discussion.

You had mentioned the sequester earlier. If you imposed a carbon tax of about that amount, you could eliminate -- you could more than eliminate, actually, the impact of the sequester and still -- and do so in a way that would be beneficial from the perspective of driving an appropriate response to the threat of climate change, because by attaching a price to carbon, you not only raise revenue, but you are also then generating a deeper incentive to shift towards, for example, natural gas both in energy -- electricity generation, but ultimately possibly in transportation, also, which is much less prevalent in the United States than it is elsewhere. So it's very important that we ultimately, either through cap and trade or a carbon tax, attach some price to carbon because without that, I think it's unlikely that we are going to respond in the way that we should to the threat of climate change, which is one of the themes that is pervasive throughout Michael's book.

MCMAHON: Great. Well, thank you both for framing these issues on the revolution, as it were. I want to open it up now to people on the call. And this is just a reminder that this is a Council on Foreign Relations on-the-record media conference call with Michael Levi and Peter Orszag. And operator, can you -- can you please see who we have as the first question?

OPERATOR: Yes, sir.

At this time, we'll open the floor for questions. (Gives queueing instructions.)

Our first question comes from Ed Brookes (sp) with the Financial Times.

QUESTIONER: Hi. Good morning. Thanks so much for taking the question.

I wanted to ask your thoughts on natural gas exports and how the administration's going to view those. We are now two years since the last permit for exports to non-free-trade-agreement countries was awarded. And obviously the risk -- now, a little speculation about what's going to happen and the fact there's been so much of a delay. It suggests there might be a bit of debate about this inside the administration and there's a very lively debate outside about whether natural gas should be exported in large quantities or whether it should be retained for the benefit of U.S. consumers. Wondering, I guess, your thoughts both on what the administration will do and what they should do and whether the two things are the same.

MCMAHON: Michael, do you want to take that on natural gas exports?

LEVI: Sure, and I talk about natural gas exports in the book.

Look, it's a straightforward debate. There are a lot of domestic players who think they would benefit from trapping natural gas inside the United States, whether that is consumers of natural gas in households, electric power generators or in particular, some segments of manufacture in particular, particularly fertilizer makers and some other chemicals makers who think that they could be better off if we trapped this gas here.

On the other side, you would have benefits, if you would allowed exports, not only from operating the terminals and selling this overseas but because allowing exports would simulate additional production and allow you to capture gains in the field, but also upstream where people produce steel, cement and other products that go into natural gas wells. I've done estimates that suggest that you might be able to net something on the order of a few billion dollars a year from allowing exports. Not anything spectacular, but the economic benefits, the net benefits should be positive.

To me, the bigger question when you talk about a government decision on natural gas exports is, what would be the broader ramifications for American trade relationships if we were to say no to natural gas exports. Right now, we are challenging China, the WTO, on its own exports of rare earth materials, its own restrictions on exports. Why do they want to restrict exports? They say it's for environmental reasons. Some people there, also, certainly talk about it as a way to boost domestic competitiveness. We'd be writing the Chinese brief if we took the same stance on our own natural gas exports.

I think this also gets to a deeper point. Part of what's happening with this oil and gas boom is it's convincing a lot of people that we no -- we may no longer need global markets. We may no longer need this structure that we spent decades, particularly since the 1973 oil crisis, building to help us be more resilient in the face of a volatile global market. And saying we're going to keep this here and secede, in some ways, from the market plays into this idea that now we don't need the rest of the world. I think that's very wrong-headed. We do need the rest of the world. We are part of an integrated global market and we need to be thinking about how our energy decisions affect our role in that market, our role in the world and our security and prosperity, given that structure, not in the context of some fanciful, hoped for world where we get to isolate ourselves from everyone else.

MCMAHON: Thanks, Michael.

Peter, do you want to jump in on this?

ORSZAG: Yes. I would just add two quick points. The first is, Michael kind of hinted at this, but a key question in terms of what the impact of exports of LNG would be even on domestic producers because you can go out and ask the folks who are building, you know, natural gas-powered electricity generation, you know, how much risk are you taking on that there's going -- you're assuming prices will remain low and that there might be some significant and additional risk if there are major exports, or the same question for chemical facilities and what have you, any energy-intensive plant.

And the answer that you get from most of the -- most of the business folks is that there -- they have looked into this and they're aware of that risk, but that their belief is that the elasticity of supply from the shale formations is significant enough that they don't expect a significant price increase. So that's a key question, which is how much of a -- of a hit would there be even to the folks who would be perceived as being damaged.

But I think the bigger point is the one that Michael made, which is it is very difficult as a general principle to justify export restrictions on something like this, where there is no -- you know, there's no proprietary national security technology concern.

And as a general principle, I think we will get ourselves twisted in a pretzel trying to -- as Michael actually has already pointed out, trying to argue the opposite side of the case with regard to the things that we'd like to be in, you know, a global free market kind of situation, but then exempting a particular category ourselves. And in any case, it's also not from a national perspective, I think, in our national self-interest to do so. So this is one of these situations where an export restriction could harm the macroeconomy and could also be counter to our other interests in terms of at least avoiding hypocrisy on trade policy writ large.

LEVI: Let me build briefly on something Peter said about prices, because one of the fears is that prices would rise so much from exports that it would endanger what's happening in manufacturing in this country because of low energy costs.

When I traveled in Ohio while I was working on the book, I met with the owner of a company that had tripled in size over the last few years because they were building compressors for natural gas production. There are all of these impacts on manufacturing that are happening that we do want to preserve. But when you look at the global market, what you see is that it's expensive to liquefy natural gas, it's expensive to take that liquefied natural gas and ship it to another part of the world and then it's expensive to take that and turn it back into gas.

And what that total price means -- and the total cost of doing that is substantially larger than the cost of extracting the gas in the first place -- what that means is that U.S. prices will always remain substantially lower than overseas ones, because if U.S. prices get driven too high by demand from exports, they'll price themselves out of the global market.

QUESTIONER: Yeah. Just I -- I just have one follow up on that. We've been talking a bit here as though it's a kind of a binary thing, exports or not exports. Obviously, those -- I think it's 17 projects of -- put applications into the Energy Department for export of gas to nonfree trade agreement countries. Are you then arguing that all 17 of those should get permits if they want them?

LEVI: Well, each of the projects has its own idiosyncrasies, so I'm not going to judge whether each is appropriate for approval. What I would say is that if you had to pick a handful of them, it is far from clear how you would make that choice.

Part of the reason we have so many applications is that people are afraid that it will become a first come, first serve regime, and so they're getting in line with their $50 application just in case that's how we do it.

MCMAHON: Thanks a lot for that question.

Operator, do we have another question, please?

OPERATOR: Thank you. Our next question comes from John Broder with New York Times.

QUESTIONER: Hello, Michael, Peter. Thanks for doing this call.

One of the apparent losers in this revolution is the domestic coal industry. They seem to see their salvation as exports. Could you talk a little bit about what the prospects are for domestic coal producers and shippers in those terminals?

MCMAHON: Mike, you want to jump in first?

LEVI: Sure. So we have seen an increase in coal exports from the United States, and as natural gas prices some coal out of the domestic market, you'll see almost certainly an increase in coal exports. There are a couple of big -- at least a couple of big questions that still surround that. The first is that transporting this can be expensive, depending on where it's coming from and where you're trying to get it to. The second is, there's substantial local opposition to some of the proposed coal export terminals, particularly the ones that would actually make the most economic sense in principle, for example, for taking Powder River Basin coal and moving it to Asia.

And then the third -- and this is more of a policy and desirability question -- is how do we think about coal exports in a carbon-constrained world. I think we have a pretty poor understanding of the net impact of coal exports on global emissions, because we don't really know whether U.S. coal exports would replace coal that comes from somewhere else or add to the total global consumption of coal. That different has big consequences for climate. I think there's some interesting analysis going on on that now that will shed some more light in the next several months, but we'll still be in a pretty -- in a pretty murky world there.

I would -- I would add one other piece. While we are seeing perhaps lower demand for rail transport of coal because there's less demand for coal and power generation, there's a significant compensating effect because rail is now being used substantially for moving oil around the country.

MCMAHON: Peter, anything to add on the coal front?

ORSZAG: Yeah, I would just highlight the point that Michael made about leakage. The core question is whether export -- from a climate perspective is whether exports of coal from the United States would, on net, add to non-U.S. coal consumption. And you can imagine in countries that are importing coal or have very high production costs of coal, that all that it would do is substitute. But for countries that have significant coal at relatively low cost, it is difficult to see why they would pay for imports from the United States, given the transportation costs, unless it was, you know, effectively a net-add. So that's a crucial question. It's one of the -- it's one of the reasons why some people have been concerned about imposing a carbon tax, say, only in the United States because if you -- if the net effect of those coal exports were to -- if they were, say, all added to consumption abroad, instead of being substituted for other forms of coal abroad, the net impact on the climate, obviously, would not be -- would not be beneficial because it doesn't matter where a carbon emission comes from. It still has the same impact on the environment.

LEVI: I should add that this sort of dynamic is important not just for coal but for other fuels and not just for climate change but for economics and security. If you take a look at oil, for example, and look at the potential impact of increased U.S. oil production, one of the things you find is that it's unlikely to have a very large impact on prices or on emissions because it would largely substitute for oil from other sources.

When I was writing the book, I visited with the secretary-general of OPEC and had an interesting discussion about the U.S. oil boom and the potential impact on his member countries. And one of the things he emphasized -- and you can judge for yourself whether you think he is bluffing or not -- is that from their perspective, there's probably room for everyone. We'll produce a bit more. They won't increase their supplies as much. The net result will be a smaller change in global production than one might expect, and as a result, a smaller change in oil prices but also in emissions.

QUESTIONER: Yes, can the two speakers comment on the subject of thorium and liquid fluoride reactors? Is that an alternative energy source for electrical power generation? If you spend any time looking at this technology which the U.S. developed in the '60s and hasn't really followed up with in terms of development, it seems that it's a pretty compelling solution, low-cost. It's a safe form of electrical power generation through nuclear power. And it's a terrible way to make weapons-grade uranium for bomb making. So I was curious is there are -- if the two of you have any comment on that. And I haven't read your book, so maybe you cover it.

LEVI: So let me -- let me say two basic things here. First, one of the patterns you find when you look at the history of energy technologies is that people are most optimistic about the technologies that aren't in use because they are able to look at them without necessarily having full knowledge of the challenges that come when you try to actually deploy them.

So I would be very careful, as with a host of other technologies, in expecting really big things from a technology that hasn't been tested commercially at scale in the field.

But more broadly on nuclear, five years ago, nuclear already was having a tough time in the United States competing against coal. Today, nuclear is in even tougher economic straits, regardless of the technology choice. Cheap natural gas makes it tough to make money at peak times when prices are high and electricity demand is high. And at the same time, subsidized windpower generation, which tends to be dominant at night when it's really windy, cuts nighttime power prices, which is another way that nuclear plants make a lot of money.

So what we've actually seen in the last year or two is a couple of nuclear power plants come up for safety upgrades and decide to shut down instead of spending the money even to do the safety upgrades because it's not even worth that money to continue producing power at a relatively low -- at a relatively low price.

So nuclear is strongly challenged in the face of the developments happening in this country. If I were to pick one factor that could really boost nuclear power across the board in this country, independent of the particular technology, it's what Peter talked about, it's a price on carbon. Nuclear power doesn't generate carbon dioxide emissions, and so if you penalize technologies that do, nuclear power gets a big boost.

At that point, I think we'd have to wait and see whether it's nuclear or renewables or carbon capture and sequestration that takes advantage of the opportunity to make big gains. But absent something that really gives nuclear full credit for that advantage that it has over other technologies, I don't think you're going to see big nuclear gains in the United States.

ORSZAG: No, I would just -- going beyond the centrality of carbon price, just one quick comment on technology, which is we haven't had, at least in terms of U.S. design, any significant advances, but there's at least the possibility that Bill Gates and associates' emphasis on a traveling wave reactor could -- and I'm not saying will -- but could have, you know, a sort of breakthrough moment. But we will have to wait and see.

In the meanwhile, I think it's clear that the biggest impetus to nuclear would be a carbon price.

MCMAHON: And as Michael said, we're seeing the same kind of scrutiny with some of the new car models that are rolling out, whether it's electric or battery or hybrids or whatever.

ORSZAG: Right.

LEVI: And that's an important part of the process. You don't figure out the problems and you don't find solutions until you actually get things out in the field. People tend to -- when we talk about innovation and energy technologies, people -- (this is mine ?) sent ahead to the labs, and that's a big part of it, but an equally big part is getting things out there, figuring out not only how to operate them in different ways to how to finance them properly, how to get business models that actually work.

QUESTIONER: Yes. You talked at length about the impact of natural gas on the -- on coal. I wonder if you could talk a little bit about the impact in the transportation sector. A couple of ways: the -- obviously, compressed natural gas for the heavier vehicles, but also whether or not you see this as kind of black swan for biofuels because a number of biofuel companies are -- have announced they're switching their feedstocks from biomass to natural gas -- to gasified natural gas, produce syngas and make fuels from that with no biomass involved.

I wonder if you could address that.

MCMAHON: Peter, do you want to kick that one off?

ORSZAG: Sure, I'll start. First, I mean, this is a -- with a caveat that I'm going to turn to in a second -- this is a significant area in which we could see growth and expansion. The sort of trite comparison I like to make is Armenia, which is not generally known as a world leader in anything, holds at least one global record, which is that three-quarters of its cars and trucks run on natural gas. In the U.S., it's something like 0.1 percent instead of 75 percent. So that just gives you some sense of, you know, the upward possibility. But the big -- the big question is, how do we get there, because in order for this to work there's a lot of changes that are required, the most elemental of which involves filling stations. There are -- and I'm a little fuzzy, but I think there are only a couple thousand, let's say 2(,000) or 3,000 natural gas stations across the country, and there are more than 100,000 traditional gasoline stations. So that just illustrates that there would have to be significant investment even in that most elemental form of capacity in order to see a broader shift in the transportation sector.

MCMAHON: Michael, do you want to add something?

LEVI: Yeah, let me build on that a bit. And I love that Peter points out that Armenia has this much natural gas-using cars and trucks. You always find this in peculiar countries. You find it in Armenia, you find it in Iran, you find it in Pakistan. The thing those countries have in common is they tend to control natural gas prices, so you don't need to worry about those prices when you buy a natural gas-fueled vehicle. And in particular, they tend to hold them below what market rates would otherwise be so that natural gas option is attractive. I don't think we're going to head down that road in the United States. I think you laid out some of the options in a nice way. Compressed natural gas in cars has the big challenge of being a lot less energy-dense, so you can't go as far on a tank of gas. And that combines with the infrastructure issue that Peter talked about to make it pretty tough to see very large-scale penetration of those.

I met with a battery executive -- battery company executive. They typically brag about their plug-in electric cars. He bragged about his compressed natural gas car that he was using to save money while he worked on trying to make -- break through some batteries. But he also pointed out that there was a filling station, a very rare filling station, one of five in the Silicon Valley area, between his house and his work, so he was able to fill up pretty much every day on one way or the other of his commute.

You talked about the conversion of natural gas into liquid fuels. I think that's a big wild card going forward. It's in principle a straightforward thing to do. It uses established chemical processes; it is being done elsewhere in the world, though often at pretty high costs. The challenge will be to see whether investment can really flow into that in a big way, because any investor in that area faces at least three big risks. They face a price risk on natural gas. They face a price risk on gasoline or diesel or whatever fuel they're competing with. And they face a price risk on construction, and these are usually multi-billion-dollar, very challenging plants, aside from some of the small ones that are being converted the way the questioner alluded to.

So multiple big risks often deter investors. But this is an area that I would really watch to see whether natural gas in the United States, cheap natural gas, can ultimately make a big market on -- big impact on our market for gasoline and diesel and jet fuel.

MCMAHON: And there was part of the question on biofuels, which I thought was kind of interesting. Michael you've written about this recently, about the sort of -- what's happening with ethanol. Do you want to just talk a little bit about that?

LEVI: Well, I think that the -- what the questioner was asking about was the conversion of plants -- of facilities that convert biomass into liquid fuels and then changing that to operate on natural gas. In the biofuels world, we've been starting to see some big challenges. I don't want to get into the weeds on that, but what I'll see is that if you look naively at the mandates that are out there and see that they mandate very large volumes of biofuels in the next 10 years, you can go from that and say, well, we're going to cut U.S. oil demand by another million barrels a day over the next decade as a result of that. I think if you look at the real world, you'll see that we're not delivering on those biofuels the way we expected to, and we've waived the mandate in large part the last several years and I think we'll continue to waive the mandate until there is a significant alternative. Unfortunately, if investors and entrepreneurs believe that you will repeatedly waive the mandate for their product in the future, they don't tend to put a lot of money into trying to deliver solutions that comply with it.

MCMAHON: Great, thanks. Just a reminder to all: This is a Council on Foreign Relations on-the-record media conference call on "America's Energy Future." We're speaking with Michael Levi and Peter Orszag. Any other questions, Operator?

OPERATOR: Yes, we have a question from Erika Karp with UBS.

QUESTIONER: Hello, gentlemen. Thank you very much for doing this call.

My question relates to your views on whether the issues at hand, climate change in particular, is a question of financial market stability. And the reason I ask is, you know, when you look at the most recent science, whether it's about the extent of Arctic ice melt or the -- you know, anyone who's experienced this -- either the Sandy storm surge, which I guess was like a 1 in 800 year event statistically.

But when you look at this stuff and when you think about the extent to which we do ultimately need some kind of carbon tax, and then when we look at the value of what some people refer to as stranded assets that sit in these gas and oil companies, which represent probably 10, 15 percent of the world's market cap, there are those that argue that the value of those assets for the companies is probably 50, 60 percent less than what the current market cap is.

And so it makes we wonder, do we link climate science in this dialogue to financial market stability? And then, are we experiencing maybe a little bit of a lack of urgency -- or a lot of lack of urgency -- to get something done policywise here?

MCMAHON: Peter, do you want to start on that?

ORSZAG: That's very -- yeah, let me jump in on that. I think what this highlights is I have long believed -- and I still believe -- that the right way to think about climate change is not the way typically framed, which is about the central estimate of what the impact on GDP would be if we have a certain increase in temperature and so on and so forth, because most of the interesting stuff is not what happens in expectation but rather what happens in terms of variance and risk and -- so that the right way to think about taking -- or the better way to think about taking action today to address climate change in, for example, to attach some price to carbon, would be to reduce the risk of severe events, and the problem with that perspective is it is almost impossible to quantify the benefit of moving from a low probability to an even lower probability when neither of those is known with certainty.

But nonetheless, I do think that there is enough -- there's enough reason to be concerned that we will be upping the prevalence of severe weather -- weather shock and that that will have an impact not only on the energy sector, as you mentioned, but, frankly, a much broader impact.

And to your point about complacency, the reason that I highlight that perspective, the sort of tail event, is I think it's very easy -- and we've seen repeated examples of this -- for people to ignore relatively small tail risks of very extreme events and then not have any action that it tries to mitigate it.

So it -- it's a -- unfortunately, I think a common human tendency, it's especially true in democracies, that policy tends to be driven by a crisis, and the thing about kind of a gradual long-term increase in risk -- which is, I think, the best way to think about increasing concentration of greenhouse gases, is that there's no single forcing event that -- you know, that strikes you as saying, well, we must act today because tomorrow we'll fall off a cliff. That's not the case. It's just -- it is gradually ratcheting up the risk factor.

And the problem with climate as opposed to many other kinds of scenarios or risks that we might face is that it is extraordinarily difficult to undo once you've exposed yourself to that risk. So in lots of other settings, you can build up exposure to a risk and then quickly mitigate that risk. So in -- you know, if the risk is a highly leveraged financial institution, you can relatively rapidly de-lever and inject more capital into those institutions and thereby reduce the risk.

With carbon and greenhouse gases, that's a much more difficult thing to undo because the risk factor really arises from the concentration of greenhouse gases as opposed to the emission rates, and the only thing you can really quickly affect is the emission rates.

MCMAHON: Michael, you want to add to that?

LEVI: Well, I think Peter really nailed the framing for how we think -- should be thinking about this. We think about it too often as an optimization problem -- how do you get the most likely outcome to be as good as possible? How do you gain a few percentage points on GDP by fine-tuning the system when what we really need to be thinking about is big risks and how to reduce those big risks?

You asked about the impact on oil and gas companies. The first thing I'd say is that if we had a solid carbon policy that in one way or another, put a price on emissions, the biggest -- the biggest hit in the fossil fuel world wouldn't be to oil or gas companies, it would be to coal companies and to utilities that depend on coal or are committed in big ways through infrastructure projects to using coal. Coal is really the number one fuel that gets hit by a serious effort to deal with climate change. Natural gas in the -- at least for the next decade or so would be boosted as a result of a serious effort to deal with climate change because you would see an incentive to move from coal to gas before a shift from gas to zero carbon energy really took over.

Oil is more complicated. Typically, when you look at the kinds of carbon prices people talk about, the kinds of prices that the president talked about a few years ago, the kinds of prices that John McCain talked about in the 2008 campaign, they have a pretty limited effect on oil, at least for the next few decades. I think that real-world carbon policy would have a larger effect on oil, but again it would really start to bite, not in the near term, but over the longer run.

And then you need to get into questions like, how much do oil companies discount their future cash flows relative to now? So the estimates you have that say they would lose 50 percent of their value or so tend to assume that barrel -- oil produced in 2040 is worth the same as a barrel of oil produced today. For a company that probably has an internal hurdle rate of 15 percent or so, I don't think that's an appropriate comparison.

MCMAHON: Thanks, operator. Do we have another question?

QUESTIONER: May I ask a follow-up question?

MCMAHON: Sure. Please go ahead.

QUESTIONER: And again this -- I apologize, this may be, you know, further afield, but it seems like one of the important issues related to energy is actually water. And so I'm wondering, can you make any comments about kind of the nexus of energy and water policy? And as an example, I understand that, you know, 50 percent of the fracking done -- fracking, obviously, uses massively more water than anything else, but I understand that about half of the fracking that's done is done in water-stressed areas. So it seems like if we have energy policy, we also need consistent water policy. Do you -- is this too far afield for you and what you've dealt with? Can you make a few comments?

ORSZAG: It's Peter. Let me -- can I jump in on that?

MCMAHON: Sure.

ORSZAG: A couple comments. The first, in water as in climate, the core problem from my perspective is inadequate pricing. We are never going to regulate our way out of water problems. So whenever you try to impose some kind of efficiency standard, so you've got, you know -- you run into a water shortage and you impose, you know, alternative day sprinkling of your -- of your lawn or -- actually, the great example is, you know, low-water-flush toilets that were installed in New York City or, you know, similar things on showers, et cetera, et cetera, et cetera. You get a corresponding and offsetting response. So if you prohibit people from watering their lawn except on Tuesdays and Thursdays, they will water them a little bit more intensively those days. If you have low-flow showers, they often will take longer showers. There are offsetting behavioral responses that try to undo the impact of what you're ostensibly trying to accomplish.

The only way to really get at that is through pricing. So if you face a price for your water use, your incentives are aligned properly and it's a lot simpler and, sort of, more straightforward. And I would say writ large across the United States, but this is also a global problem, we are not adequately pricing water because it is politically challenging. And one way to get around that is kind of a block price where you have a certain base level of water use that's exempted and then beyond that there's a marginal price that's associated with the use. And we could be doing that much more aggressively than we are in the United States.

And you're also right. I'm a little less sure that fracking is the best example of the connection, but there are undoubtedly examples of connections between water and energy and energy and water. One of which is that water problems in the north -- the northern region of the north-south kind of water divide in China were so severe that there were actually problems running some traditional power plants and that led to a very significant increase in, basically, kind of, smaller-scale generators that -- almost home-scale generators being added to run electricity for housing and for some small power -- I mean, for some small production facilities. And that, then, had an effect on the fuel input that was used in those generators.

So there absolutely is connections, as would be expected given two dominant forces in the economy. But again, I think the cleanest way of dealing with water issues is not to believe that we can regulate our way out of them because I think that's almost a fool's errand. A much better way, which is not used as aggressively as it should, is to price water.

LEVI: Let me add just a little. I think Peter's right on this.

If we got a better understanding of the shale resource and of where the -- where the good wells will be and the bad wells will be -- because right now our understanding is relatively poor. We drill a lot of wells that aren't all that successful so that we can make sure that we hit the right spots. If we had a better understanding what was going on underground, we would use less water, we would have fewer truck trips for that, to bring that water in, so less community disruption and the economics of the industry would get better. So there are opportunities where you can make gains on the water front and on the economic and other environmental impacts for under -- at the -- at the same time.

MCMAHON: Does that have a bearing on the Keystone issue, as well, Michael, with the Oglalla reservoir? Is that sort of a different --

LEVI: I think that's a totally different --

MCMAHON: Totally.

LEVI: -- a totally different world and a complicated issue that we're probably not going to nail down on this call. (Laughter.)

MCMAHON: Thank you. Operator, do we have another question?

OPERATOR: Yes, we have a question from Byra Shawna (sp) with Middle East Broadcasting Network.

QUESTIONER: Yeah, I thank you for the question.

I want to ask you about how oil search will shape with U.S. relations with the world, especially with the Middle East, with Saudi Arabia.

And another question, how do you see the role of the United States, maybe, in the energy market? Will we see Washington exploiting some conflics in the Middle East, in other regions, just to -- (inaudible) -- control the energy world market?

MCMAHON: To Michael, geopolitics.

LEVI: So I think it's important to separate those questions into two pieces. One is, what impact should what's happening in the United States have on U.S. relationship with the rest of the world?

The other is, what impact will what's happening in the United States have on what's happening in the rest of the world? And let's focus on oil -- gas is a different story and we can come back to that later if we want to, but in the oil world, we remain dependent on global markets and we would remain dependent even if we produced all of the oil that we consume. When things go haywire in the Middle East and the price of oil spikes, it spikes here too and it would continue to even if we produced all of our own crude. When we saw the conflict in Libya a couple of years ago, the price of oil coming from Canada into the United States increased by more than the price of oil from the Middle East did. So while we would get some insulation from the broader economic consequences of price spikes because we would be, essentially, sending money from U.S. consumers to U.S. producers in the event of a spike, we would be far from fully insulated because even that shock that moves money from consumers to producers would still hurt the economy in the short run.

So as a matter of principle and substance, we need to continue to be engaged in making sure that we have stable global markets and that oil and other resources and other commerce are able to move freely and reliably around the world. Now, that's the matter -- that's the theory. As a matter of practice, I have no doubt that what's happening in the United States will influence domestic debates. Energy policy has never been firmly and consistently anchored in entirely in reality and I don't see any reason for that to change. There are a lot of people who will believe that the United States can be less engaged in the rest of the world because of this and they'll press that point in debates over things -- everything from diplomatic engagement to military force structure and I think that probably has real-world consequences.

You also find when you travel in the Middle East that a lot of people are genuinely scared that the United States will be less engaged. When you travel in China, people ask consistently about whether the United States will continue to protect the sea lanes that connect not only the Middle East to North America, but also to Chinese and other Asian markets. And no matter how much we do to say we're still going to be there -- and you've heard that from the national security adviser last week, you heard it from the special envoy for international energy at the State Department a month or so ago -- no matter how many times people hear U.S. officials say we're still there, they're not going to be fully confident because of these trends. And I'm sure they will hedge against the possibility that the United States could become substantially less engaged.

So real-world consequences will result as much from people's perceptions of what these developments mean as they will from the reality on the ground.

MCMAHON: Peter, anything to add to that?

ORSZAG: I think that was very well said and I have nothing to add to that.

MCMAHON: All righty. Operator, we have another question, please.

QUESTIONER: Yes, we have a question from Whitney Stanco (sp) with Guggenheim Security.

QUESTIONER: Thanks, Michael and Peter, for doing a call. This is great. Quick follow-up: You guys talked about LNG exports, but there's some thought that the next export debate around the corner is whether or not we should export crude oil and whether or not our refining capacity here will be maxed out in terms of its ability to process all the light sweet crude we've got going on here.

So, just any quick thoughts on that -- you know, how do you think the political debate is different than LNG exports and whether or not you think exporting crude is also in the U.S. interest.

MCMAHON: Michael, exporting crude?

LEVI: So this is a really peculiar area and we're going to have to face up to it well before the United States is able to produce as much oil as it consumes, because of this mismatch in oil types that you point to.

As a matter of substance, there are far fewer losers from allowing oil exports than there are from allowing natural gas exports. I mean, Peter and I both said early on that there are net gains from allowing natural gas exports but there are winners and losers. Allowing oil exports doesn't create much in the way of down side, but it does create up side opportunities to use our refineries more efficiently and to add additional supplies to the market. But as a matter of politics, oil exports will almost certainly be more difficult than natural gas exports. Gas exports is largely, right now, about different interest groups with different preferences. Oil exports I'm sure will hit at this basic belief that people hold very intensely in this country, that producing oil here and using oil here is the surefire route to increase national security. And the idea of oil exports just seems intuitively to fly in the face of what most people assume makes sense for American prosperity. So I expect that oil exports may be a much more charged debate, even if the substance doesn't necessarily merit it.

MCMAHON: Peter, did you want to add in on that?

ORSZAG: Well, yeah. I mean, in natural gas, the debate over exports, while I think it should, you know, be resolved in favor of exports, is at least understandable because natural gas markets historically have been somewhat segmented and it hasn't -- you know, it's not effectively a global market. In oil, that's just not the case and it would be highly -- even more ironic for the United States to say, we will prohibit -- or not allow -- exports of oil when for decades now, we have been reliant on or at least, you know, been the beneficiary of other countries' exports. It just -- I agree with Michael that the debate is coming, but I think it would be hugely, just in terms of our stand in the world and our ability to not look like hypocrites, odd to say that we are going to prohibit or discourage the export of oil, should that prove to be economically sensible.

MCMAHON: And that's going to be the final word on this call. Our hour is up. And I want to thank our two guests, Michael Levi and Peter Orszag, for navigating us through this brave new world of America's energy. And thanks to everyone on the call as well. This concludes this Council on Foreign Relations on-the-record media conference call. Thank you.

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